You're Not Saving Enough. Here's Why

We're saving a lot less than we did just a few years ago.

This is bad news. When it comes to retirement, Americans should be saving even more than they think is probably necessary.

The personal U.S. savings rate for November 2007 was negative 0.5% of disposable income, according to the latest available figures from the U.S. Bureau of Economic Analysis. That means for every $100 a person earned, that person ended up spending $100.50, or 0.5% more than he or she earned.

By comparison, Americans saved 1.8% of their disposable income in 2004, and that was down from 4.8% in 1994 and 10.8% in 1984. (The numbers don't take into account investments in real estate.)

Conventional wisdom is that you need to put aside 10% of your earnings each year for retirement. But this rule of thumb is no longer relevant -- and not just because people are living longer and Social Security may not be around for some of us.

The new reality: You should be shooting to save even more than 10% each year.

Here's why:

Stock Earnings: The assumptions you make about the rate of return on your retirement savings could very well be inaccurate. For example, you may assume that the returns on your retirement funds will compound at a rate of 8% every year. But the stock market doesn't perform uniformly over time. So if you happen to begin your retirement savings when the stock market is going through a stretch of lackluster returns, or even worse, a bear market, you will need to save much more in your later years to make the calculation work out.

On the other hand, if you are lucky and the stock market performs above expectations the first few years you put money aside, you may not need to invest as much in your later years.

This means that even the best-laid plans may need to be supplemented to account for the fact that your investments may not perform as well as you expect. When it comes to your retirement years, you aren't going to be disappointed if you have saved more than you needed to.

Catch Up: If you didn't start saving when you were younger, you're going to have to place more money into the retirement account each year to meet your retirement goals. And the longer your wait, the more you will need to set aside each year, which will likely be more than 10% of your income.

You may assume it will be easier to set aside the money when you're older and earning more, but most people increase their lifestyle to fit their paycheck as they get pay raises. That means it won't be nearly as easy as you may assume.

The Cost of Kids: In a perfect world, you would be able to set aside a set amount every month from an early age on. The fact is that life can make that difficult at times. One of the biggest reasons is having kids. It's a simple fact that kids cost a lot of money, from daycare costs when they are little to college tuition when they are older. If you have kids, chances are there are going to be times where you aren't going to have the money each month to contribute to your retirement savings.

To compensate and in anticipation for these years, you should aim to save more than 10% a year before you have kids.

Social Security/Pensions: In the past, many people could rely on social security and pensions as a source of retirement income, but, as we all know, it's becoming increasingly unlikely that either will be there for people in today's workforce -- particularly those in their 20s and 30s. There is a big question mark of what's going to be left in social security when all the Baby Boomers are in their retirement years, and pension plans are slowly disappearing as more companies switch over to 401(k)s and other defined contribution plans. Without this extra income help in your retirement years, you need to save more than 10%.

Life Expectancy: Finally, life expectancies continues to rise, meaning that people will need their retirement savings to last longer than in the past. There are two basic ways to achieve this: You will either have to postpone retirement by a few years or save more money each year. If you want to retire at 65 and you expect to live into your late 70s to early 80s, saving 10% a year won't cut it.

Of course, the younger you are when you start saving for retirement, the bigger the impact this savings will have on the size of your nest egg, since it will have longer to compound.

So that while it may not be necessary to save more than 10% when you are young, doing so will pay off dramatically. If you're able to squirrel away extra money when you're in your early 20s, you're less likely to have to play catch-up as you approach retirement age.

The numbers tell the tale. If you put aside $300 a month starting at age 22 and receive 8% interest, you'll reach 65 with $1.28 million having placed $154,800 of your own money into the retirement savings during that time.

But if you wait until you're 30 to start putting money aside for retirement and increase the amount you save to $500 a month, you end up with only $1.11 million at age 65, even though you've contributed a total of $210,000.

The key is to start saving immediately, if you haven't already begun, and to make an effort to put aside more than 10% of your earnings. That is the only way to ensure you can retire on your own terms.